Under U.S. GAAP rules, where an investor owns 41% of the voting shares of an investee and is able to control the investee, which of the following methods of accounting is most appropriate to use?
Acquisition Method
All of the assets, liabilities, revenues and expenses of the subsidiary are combined with the parent
Organic Growth in Sales
Sales excluding currency fluctuations and value added from acquisitions
Current Rate Method
The exchange rate on the BS date
All IS accounts are translated at the average rate
All BS accounts are translated at current rate except common stock which is at Historical rate when issued
Divideds translated at rate when they were declared
Translation gain.loss reported on SH equity as part of cumulative translation adjustment
Temporal Method
Monetary assets/liab are remeasured using the current exchange rate (cash, receivable, payables, ST/LT debt
All other assets/liab are remeasured at historical rate
Expenses related to non monetary assets such as COGS, depr exp, and amortization are remeasured based on the historical rates prevailing at the time of purchase
Remeasured gain/loss recognized on IS
Historical Rate
The actual rate in effect when the original transaction occurred.
Temporal Method (COGS)
Historical rate
Current Rate Method (COGS)
Average rate
Local Currency under current method vs temporal method
Current method - same as functional currency (the currency of the primary economic environment in which the entity operates)
Temporal method - remeasured under this method
Capital (finance) lease
A finance (capital) lease is reported on the balance sheet as an asset and as a liability. In the income statement, the leased asset is depreciated and interest expense is recognized on the liability. Thus, capitalizing a lease enhances earnings quality.
PBO
= PBO at beginning of the year
+ Service cost
+ Interest Cost
+/- Past service cost (plan ammendments)
-Benefits paid
Plan assets
Fair value at the beg. of the year
+Contributions
+Actual Return
-Benefits paid
Special Purpose Entitiy
a legal structure created to isolate certain assets and liabilities of the sponsor. Can be a corporation, partnership, join venture, or trust. Does not require separate management
motivation is to reduce risk and thereby lower the cost of financing.
Structures so that the sponsor company has control over the SPE's operating/finances, while 3rd party has control int. on equity
Variable Interest Entity
at risk equity that is insufficient to finance the entity activities without additional financial support
Equity investors that lack any one of the following
decision making rights
The obligation to absorb expected losses
The right to receive expected residual returns
A VIE must be consolidated by the primary beneficiary
The basis for using the current rate method
is when Functional Currency is NOT the same as Parent's Presentation (reporting) Currency.
The basis for using the temporal method is
When local currency is remeasured into the functional currency
when Functional Currency = Parent's Presentation Currency.
Basel III regulation that aims to prevent banks from assuming so much leverage that they are unable to withstand loan losses is most correctly described as the:
Minimum capital requirement
Stable funding requirement
Stable funding requirements specify the amount of stable funding relative to liquidity needs over a one-year horizon.
minimum liquidity requirement .
minimum liquidity requirement specifies a minimum level of liquidity to cover a partial loss of funding sources or outflow due to off balance sheet commitments.
Example of variable interests
A lease residual guarantee and subordinated debt are both examples of variable interests.
What is the impact of FVPL investments on the IS?
Fair Value Profit Loss investments impact the IS through price appreciation/depreciation and dividends received
CAMELS analysis
accuracy of accounting estimates
Estimation methods used for the fair value of assets
Total Periodic Pension cost (TPPC)
Employer contribution - (End fund status - beg fund status)
+ service cost
+ interest cost
- actual return on assets
+/- actuarial losses/gains due to changes in assumptions affecting PBO
+ Prior service cost
service cost + interest cost – actual return on plan assets + plan ammendments
Phantom stock
Phantom stock is similar to stock appreciation rights except the payoff is based on the performance of hypothetical stock instead of the firm's actual shares.
Performance stock
a type of stock grant. It is contingent on meeting performance goals such as accounting earnings or other financial reporting metrics like return on assets or return on equity. Unfortunately, tying performance to accounting earnings and other metrics may result in manipulation by the employee. With restricted stock, the transferred stock cannot be sold by the employee until vesting has occurred.
Understating expenses
Inventory must be tested for obsolescence using the lower-of-cost-or-market method. Obsolete inventory must be written down (expensed) in the income statement which results in lower earnings. Thus, failure to recognize obsolescence understates expenses and overstates earnings.
Delaying Expenses
Delaying expenses involves deferring recognition to a future period. Delaying expense is the result of capitalizing a cost instead of immediately recognizing the cost in the income statement. This is not the same as failing to recognize inventory obsolescence.
What is the grant-date for a service based award?
the date an award is approved by the board of directors or compensation committee.
High Quality Cash Flow is characterized by
lower operating income volatility compared to peers
No significant differences between operating cash flow and reported earnings.
positive OCF that is derived from sustainable sources and is adequate to cover capital expenditures, dividends, and debt repayments
